Using an SBA Loan to Buy a Business? You Need Due Diligence!
Chris Barrett
An SBA Loan is Always Right....right?
In a recent episode of the EntreLeadership podcast with Dave Ramsey, a caller shared a cautionary story that every aspiring business buyer needs to hear. The caller had taken out an SBA loan to expand their daycare business and open a second location. But what seemed like a smart move quickly turned disastrous.
They underestimated the true cost of the buildout, overextended financially, and now face bankruptcy. The loan never should have been written in the first place… so why did it get written? This is exactly why SBA loan due diligence is non-negotiable.
The Misconception: “The Bank Does All the Diligence”
We’re sharing this story because many entrepreneurs think that when they get an SBA loan to buy or expand a business, the bank is doing all the homework. They believe that if the bank approves the loan, the business must be a sound investment. Unfortunately, that’s not how it works.
While the bank will conduct its own review, it’s designed to protect the lender, not necessarily the borrower. This false sense of security can lead buyers into serious financial trouble.
So, what are banks really checking during SBA loan approval?
They typically focus on:
- Creditworthiness of the borrower
- Historical financials of the business
- General feasibility of the transaction
What they don’t do is dive deep into whether the business is a truly sound investment. They won’t assess operational risks, market competition, outdated systems, or hidden liabilities. In short, they don’t do the real due diligence. That task falls to you.
SBA Loan Due Diligence Protects You
SBA loan due diligence is your opportunity to investigate the business thoroughly. It’s an investment not just on paper, but in real-world terms. Here’s what that process should include:
- Verifying financial health with a Quality of Earnings (QOE) report
- Assessing hidden liabilities in contracts, leases, and vendor agreements
- Reviewing operations and staffing for red flags
- Projecting realistic costs for upgrades, renovations, or expansions
- Evaluating market trends and local competition
Skipping this process is like buying a house without an inspection. You’ll have no warning what problems could be hiding out of sight.
Who Should Be on Your Due Diligence Team?
Before committing to any deal, including an SBA-funded deal, surround yourself with experienced professionals:
QOE Providers: Analyze actual cash flow and earnings quality.
Legal Experts: Review business structures, agreements, and compliance.
Industry-Specific Advisors: Spot red flags only insiders would know.
These professionals help you see beyond the surface, ensuring you’re buying a business and not a burden.
Don’t Let Optimism Blind Your Judgment...
…but don’t let pessimism stop you either! An SBA loan to buy a business can be a powerful tool, but only when paired with proper SBA loan due diligence. Don’t assume the lender has done the hard work for you. It’s your responsibility to make sure you’re buying into an opportunity, not a liability. The best way to do this is research and solid due diligence. Here at Midwest CPA, we’ve worked on hundreds of deals. Every day, we help entrepreneurs avoid the wrong business and successfully grow the right one.
Disclaimer
The content contained in this blog post is intended for general informational purposes only and is not meant to constitute legal, tax, accounting, or investment advice. You should consult a qualified legal or tax professional regarding your specific situation.